Sunday, October 16, 2011

Social Security: What Must Be Done

Previously posted at Caffeinated Thoughts, here are my thoughts on the issue of social security and what must be done.


Ever since Rick Perry entered the race, Social security has been a hot topic. I think it’s been discussed more in the past two months than it has in the past 10 years, maybe with the exception for when George W Bush tried to reform the system around 2005.

In this post, I’ll present my ideas on what needs to be done. Most conservatives agree there is a problem, and many dare to speak up. The problem is that the actual solutions don’t reach the public; what they hear is that we conservatives want to reform the system, but not how. This makes most people assume the worst; that we’ll abolish the program outright and overnight.

There’s been a long discussion on whether social security is a ponzi scheme, and if it is; should we call it what it is or should we be strategic and just say it’s “broken” (a la Mitt Romney).

First, about the ponzi scheme: Social security essentially just another welfare system. We talk about it as if it were an “insurance”, but it’s not. The fact that we think of it as an insurance is the result of a successful marketing campaign by the Roosevelt administration. While banks had become unpopular during the Great Depression, insurance companies were still respected by most people. Also, they couldn’t really call it charity as a lot of people would reject accepting charity out of pride. However, telling someone that “you’re not really on welfare, you’re just collecting insurance money” worked.

The system was designed to be impossible to get rid of: The retired would be depending on pensions they couldn’t afford to go without, and those still in the workforce would have already paid a lot of money in social security taxes, and so would think they were entitled to receiving social security once they themselves retired. You can’t blame either group.

The problem is that very few people understand how the system really works: The money paid in today (in the form of the SS tax) is paid out to the current retirees. When these retirees were working and paying the SS tax, that money was then paid out to the retirees at the time. Yes, if there is a surplus (and for a long time there was) that money was put into a trust fund – but politicians never really managed to stay away from that trust fund, and so they “borrowed” from it to pay for various wars and other expensive stuff they wanted to do. It’s called intra-governmental debt, when for instance the department of defence owes money to another department, or as in this case to the trust fund. Do you believe that money will ever be repaid? No, me neither.

This is essentially how unemployment benefits, or any other welfare program works: Those who are in the program receive tax money paid by those who are not.

Social security is not inherently a ponzi scheme. For starters, a ponzi scheme (legally speaking) is only a ponzi scheme if the person who created it did so with the intention of creating a ponzi scheme. We got no reason to believe liberals intentionally did this; a ponzi scheme can’t last forever and they would certainly like a welfare program to last forever. They would never intentionally create the kind of time bomb social security is today.

But that’s not the only reason why Social security isn’t in itself a ponzi scheme. Think about it; if social security is a ponzi scheme, then we must resonably conclude that unemployment benefits is a ponzi scheme as well. Those who are currently working are paying taxes that are turned into unemployment benefits for those currently not working. And if enough people become unemployed, then the money paid in by those working won’t be enough (the ponzi scheme collapses when too many “investors” are trying to withdraw their money at the same time).

No-one ever talks about unemployment benefits as a ponzi scheme, and so we should all relax and ignore all the warnings about social security, right? Not really.

The thing about unemployment benefits vs pensions is that, with the exception of deep recessions, the number of unemployed remains pretty stable. It doesn’t just increase exponentially year after year (not any faster than the general population does anyway). The number of retirees on the other hand is increasing fast as the baby boomers retire, and while we can’t foresee how many people are going to be on unemployment benefits in 10 years, we can more or less say how many will be retired.

The problem is demographic: Birth rates have dropped significantly since Roosevelt initiated the program (we can’t fault him for not being able to predict that). If birth rates had stabilised at the levels they were during the baby boom, we probably wouldn’t have had this problem today. It’s the fact that the baby boom didn’t last forever that created this problem, where we now have a disproportionate number of people who are near retirement age.

The problem is that since people believe that the money they pay into the social security system is kept safely locked up in a trust fund until they’re retired, they don’t see why they should have to pay more taxes just because more people are retiring now than before: Their social security taxes are meant for THEM, right? The money they pay in has a name tag with their name on it, so that when they retire, they get exactly the money they paid in, right… ? Like I’ve already explained, that’s not the case.

That’s the other part of the problem: If the citizens of America had been fully informed about how the system actually works, they would probably have accepted either higher taxes or lower benefits long time ago. Just like if there are a lot of unemployed people, we may have to lower unemployment benefits (or alternatively raise taxes). It’s because they don’t understand that SS is a welfare program that they won’t accept that it has to be reformed (a majority of americans wants to balance the budget without reforming entitlements, which is practically impossible).

In other words, we got two problems:

1) Demographic trends, the number of retirees increasing faster than the workforce. Also, we live longer than ever.

2) Misinformation causing people to resist necessary changes to the program, that they would have accepted had they understood the true nature of the program.

As a sidenote to 1), I’d like to note that it’s possible to have a social security system even with a declining population, assuming we get more productive every year so that while population may fall, total output doesn’t, and assuming that benefits stay at constant levels. The problem is that today’s retirees are much more demanding than the retirees back in the 1930′s, and so today’s social security program is much more extensive than the one created during the Great Depression. If retiree’s today were willing to accept the living standard of the retirees back in 1938, there would be no social security crisis. I’m not saying that they should, but it’s still an interesting point. The original program was not nearly as financially unsustainable as the one we have today.

Now for the interesting part:

What should be done?

1) Get rid of the capital gains tax. The capital gains tax punishes people for investing, which makes it harder and less attractive to save for retirement. If government can’t provide us with pensions (and it can’t, for much longer) the least you could ask of it is not to punish us for saving ourselves. Also, the capital gains tax is a stupid idea in the first place and has been for the past 30 years or so: Capital is very fluid. If you tax capital in the US (meaning you make it less profitable to invest in the US), investors will just put their money somewhere else. Also, it leads to lower long-term growth: If a company pays out a dividend of 10 % (of its profits), and government institutes a 20 % capital gains tax, this company will now have to pay out 12.4 % to compensate investors. This means less money is left over to be invested in Research & Development (R&D), which means we get less research and less… well, development. And in the long run, technological advancements (which largely results from investments in R&D) are what creates growth. This is just another well-established economic fact the left has chosen to ignore.

While we’re at it, introduce the FairTax. Now that would really remove every disincentive to work and invest – things we want people to do. Rather than thinking of how government can fix the pension system, maybe we should think of how government could get out of the way and stop preventing people from solving the problem themselves?

2) Cut benefits for high-income earners. It makes no sense to pay social security benefits to those who could do without them. You’re not entitled to unemployment benefits just because you’ve paid taxes that have been used to provide unemployment benefits for others your entire life. Also, I believe Republicans are the ones who should suggest this. Why? Because high-income earners have nowhere else to go. Who are they going to vote for? Even though they may be upset, that’s unlikely to make them vote for Obama (who is likely to hurt them even more). On the same note, I also believe democrats should be the ones to propose a medicaid reform, for the same reason. But even if they lack the guts to do that, that’s no excuse for us not to do our part.

I don’t think most high-income earners will care very much. These are typically well-educated people, most won’t have a problem understanding why this is necessary. If you’re a wall street trader making $300k a year, I think you’re more worried about a potential US federal government bankruptcy that would blow away the financial system (and your job) than you are about not receiving a social security cheque that you really don’t need anyway.

Finally: If the rich can start by doing their part, it will be easier to convince the rest to follow. And, as cutting benefits for the rich won’t be enough to solve the problem, the rest will have to follow.

3) Raise the retirement age. This is something that needs to be done straight away. I suggest different retirement for different sectors, with the highest age for those who are not performing any physical work as part of their job. No, I’m not saying intellectual work can’t be exhausting (I’d know – I’ve performed loads of it), but given the circumstances, it makes no sense that an office worker can retire at the same age as someone who’s worked their whole life in an occupation that requires heavy lifting. I’m not saying every occupation should have their own retirement age, but definitely every field. No, it’s not a perfect solution, but it would definitely be an improvement.

4) Let’s be honest and specific. If we’re not honest, we won’t be trusted. If we’re not trusted, we can’t govern. Also, let’s be specific about what we want to do. Let’s calculate how much benefits will have to be cut and for whom, how much the retirement age will have to be raised and so on, and then, let’s just be honest and tell people that this is what we’re going to do. Now, you may be thinking that I’m not being very specific in this post, and you certainly have a point. However, that is only because I lack the massive amount of data necessary to make specific calculations. That’s not going to prevent someone with access to that data (and more time to analyze it than I have) to use it and figure out exactly how much will have to be cut and from whom.

Another benefit of being specific is that your words can’t be twisted and interpreted to mean anything: If you say social security benefits has to be cut, then liberal media will make sure people interpret this to mean that the whole program will have to be abolished tomorrow. If, on the other hand, you say that current retirees (no, I’m afraid they can’t be spared) will have to take a cut of let’s say $50 dollars per month, then that means $50 dollars and nothing else.

Not only should we be honest because it’s a virtue; we should be honest because we owe it to the people whos votes we ask for.


In the long run, Social Security will probably have to be privatized. The liabilities are simply too large. In this post, I’ve focused on things we can do now – long-term goals rarely make good campaign promises. We need to talk about what we want to do over the next four years, and I’m afraid a complete privatization might take longer than that to prepare (it would be among the biggest reconstructions of the federal government that has ever been made).

Rick Perry has a point when he says Social security is a ponzi scheme, although it’s not inherently a ponzi scheme and was never intended to be one. That, however, is just a remote academical point at this stage: We need to act anyway – good intentions are not enough (the road to hell are paved with them, as they say).

I admire Perry for his courage in bringing this up (although it’s mostly a result of a book that he probably wrote before he decided to run for president). I also feel Ron Paul deserves to be recognized as he has worked tirelessly for decades warning people of the eventual collapse of social security. This is not an endorsement of either man – I haven’t endorsed anyone and probably won’t do so for a couple of weeks anyway. In a later post, I will go write a review of the different candidates and their positions on social security and the other entitlement programs. However, this will do for now. Thank you for reading.

John Gustavsson

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